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Review  of  Proposed 
Banking  and  Currency  Bill 


By  James  B.  Forgan 


Review  of  Proposed  Banking  and 

Currency  BilF 


By 

James  B.  Forgan 

President  of  The  First  National  Bank 
of  Chicago 


*  S  2639  and  H  R  6454  introduced  in  the  Senate  and  House  of 
Representatives— June  26,  1913. 


[  The  Federal  Reserve  Act,  S.  2639  and  H.  R.  6454, 
simultaneously  introduced  in  the  Senate  and  the 
House  of  Representatives,  June  26,  1913,  reviewed 
by  James  B.  Forgan.] 

Federal  Reserve  Districts 

Section  2.  Provides  for  the  organization  of  "not  less  than  twelve"  Federal 
Reserve  districts  in  which  there  shall  be  established  twelve  Federal 
Reserve  Banks  to  which  national  banks  are  required  to  subscribe  the 
capital  to  the  extent  of  20  ^o  of  their  own  capital,  one  half  to  be  paid  in 
cash,  the  other  half  to  be  subject  to  call.  The  minimum  capital  of 
any  Federal  Reserve  Bank  to  be  $5,000,000. 

The  Currency  Commission  of  the  American  Bankers'  Associa- 
tion in  its  answer  to  question  number  13  of  questions  formulated 
by  a  sub-committe  of  the  Banking  and  Currency  Committee  of 
the  United  States  Senate  placed  itself  on  record  as  follows  in 
regard  to  the  number  there  should  be  of  Federal  Reserve  Banks 
or  Associations  and  I  am  heartily  in  accord  with  them: 

"In  our  opinion  one  central  reserve  association  with  branches 
would  best  serve  our  present  necessities.  Failing  that,  a  small 
number  of  regional  reserve  associations,  also  with  branches, 
might  be  organized  to  serve  the  purpose.  The  smaller  the 
number  of  regional  reserve  associations,  however,  the  more 
effective  the  reserve  control.  If  there  are  to  be  a  number  of 
regional  reserve  associations  they  should  be  under  some  kind 
of  central  control  in  which  both  the  government  and  the  various 
associations  should  have  representation. 

"Three  objections  to  the  regional  reserve  associations  occur 
to  us: 

'  'First.  They  will  divide  the  cash  reserves  of  the  country  into 
as  many  different  ownerships  as  there  are  regional  associations. 
No  individual  bank  can  now  strengthen  its  cash  reserves  with- 
out at  the  same  time  and  to  the  same  extent  depleting  the 
reserve  of  some  other  bank,  so  with  the  regional  reserve 
associations,  no  one  of  them  will  be  able  to  strengthen  its  cash 
reserves  without  drawing  them  from  and  reducing  to  the  same 
extent  the  reserve  of  one  of  the  other  associations. 

"Second.  In  connection  with  the  shipping  of  reserve  money 
from  one  section  of  the  country  to  another.  Under  one  central 
reserve  association  with  branches  this  could  be  accomplished 
without  change  of  ownership  of  the  money  shipped,  as  it  would 
belong  to  the  one  association  irrespective  of  what  branch  had 


custody  of  it.  In  the  case  of  independent  regional  reserve 
associations  no  such  transfer  of  reserve  money  could  be  made 
from  one  region  to  another  without  a  change  in  ownership.  It 
would  increase  the  reserve  of  the  association  that  receives  it 
and  deplete  by  a  similar  amount  the  reserve  of  the  association 
that  ships  it.  In  times  of  financial  stress  when  each  regional 
reserve  association  would  be  husbanding  its  resources  for  the 
benefit  of  its  own  constituents,  this  might  produce  an  undesir- 
able and  awkward  situation,  the  interests  of  the  various  sections 
of  the  country  being  at  variance.  Such  effect  will  be  intensified 
in  direct  ratio  to  the  number  of  regional  reserve  associations,  and 
"Third.  Under  one  ownership  and  control  of  the  reserves 
transfers  of  funds  could  under  normal  conditions  be  accomplished 
by  book  entries  rather  than  by  the  shipment  of  money." 

Federal  Reserve  Banks 

Section  3.  Federal  Reserve  Banks  may  establish  branches  in  their  districts, 
the  total  number  of  such  branches  not  to  exceed  one  for  each  $500,000 
of  their  capital. 

As  it  is  quite  practical  that  branches  can  be  made  to  afford 
the  banks  in  their  immediate  vicinities  all  the  facilities  that  the 
Federal  Reserve  Banks  can  afford  them,  another  good  reason  is 
here  offered  for  keeping  the  Federal  Reserve  Banks  down  to 
the  smallest  number  deemed  politically  practical  or  possible. 
From  the  standpoint  of  financial  stability  and  strength  there  is 
not  a  doubt  in  my  mind,  that  one  Central  Reserve  Association 
with  branches  in  which  all  the  reserves  of  all  the  banks  could 
be  mobilized  and  controlled  would  best  serve  the  purposes  of  all 
business  interests  in  all  sections  of  the  country.  Not  a  single 
valid  reason  from  a  business  standpoint  has  been  put  forth  in 
favor  of  their  multiplication.  Let  us  then  have  as  few  as 
possible  and  on  page  three,  line  four,  of  the  bill  after  the  word 
*'  not,"  omit  the  word  "  less, "  and  substitute  in  lieu  thereof,  the 
word  "more."  I  venture  to  predict  that  within  ten  years,  if 
twelve  Federal  Reserve  Banks  are  now  established  Congress 
will  be  called  upon  by  the  business  interests  of  the  country  to 
pass  an  act  consolidating  them  into  one.  I  believe  time  and  ex- 
perience will  prove  the  truth  of  the  adage  "in  unity  there  is 
strength." 

Directors  of  Federal  Reserve  Banks 

Section  4.  Provides  that  the  directors  of  the  Federal  Reserve  Banks  shall 
have  powers  similar  to  those  of  directors  of  national  banks  except  as 
extended  or  limited  by  this  act.  They  are  to  be  of  three  classes. 
Class  A.     Three  to  be  elected  by  and  to  be  the  representatives  of  the 


stockholding  banks.  Class  B.  Three  to  represent  the  general  public 
interests  of  the  district,  to  be  also  elected  by  the  stockholding  banks, 
but  to  be  subject  to  removal  by  the  Federal  Reserve  Board  if  it  should 
appear  that  they  or  any  of  them  do  not  fairly  represent  the  commercial, 
agricultural  or  industrial  interests  of  their  district.  Class  C.  Three 
to  be  chosen  by  the  Federal  Reserve  Board,  one  of  whom  shall  be 
designated  by  said  board  as  chairman  of  the  board  of  directors  and  as 
"Federal  Reserve  Agent."  Said  board  shall  also  fix  his  annual 
compensation. 

It  must  be  assumed  that  the  chairman  of  the  board  of  direct- 
ors as  designated  and  appointed  by  the  Federal  Reserve  Board 
will  be  the  principal  executive  officer  of  the  Federal  Reserve 
Bank  and  as  he  is  subject  to  removal  by  the  Federal  Reserve 
Board,  without  notice,  he  will  be  directly  under  the  domination 
and  control  of  that  board.  This,  with  the  power  to  remove  the 
three  directors  representing  the  public  interests,  places  the 
management  of  the  Federal  Reserve  Banks  directly  under  the 
domination  and  control  of  the  Federal  Reserve  Board,  a  politi- 
cally appointed  body. 

Division  of  Earnings 

Section  7. 

As  the  Act  provides  that  after  the  payment  of  5%  dividends 
to  shareholders  a  surplus  of  20%  shall  be  accumulated  giving 
the  stock  a  book  value  of  $120  at  which  price  new  banks  coming 
in  then  vv^ill  have  to  pay  for  it,  the  dividend  should  be  increased 
to  6%,  which  when  the  book  value  and  cost  of  the  stock  is  $120 
would  yield  only  5%  on  the  amount  invested. 

A  further  reason  why  the  stock  dividends  should  be  more 
than  5%  per  annum  is  that  in  addition  to  supplying  the  Federal 
Reserve  Banks  with  their  capital  aggregating  $105,000,000  they 
will  also  supply  them  with  deposits  aggregating  $410,000,000. 
These  figures  are  based  solely  on  what  is  compulsory  on  the 
national  banks.  If  the  state  banks  can  be  brought  in  the  figures 
would  at  least  be  doubled.  The  profits  of  the  Federal  Reserve 
Banks  will  therefore  be  almost  entirely  made  on  the  use  of  funds 
belonging  to  the  stockholding  banks  and  will  at  the  same  time 
be  almost  entirely  obtained  from  these  banks.  The  stockhold- 
ing banks  will  get  nothing  on  their  deposits,  by  far  the  greater 
part  of  their  contribution.  It  would  therefore  seem  only  fair 
and  equitable  that  if  the  profits  will  warrant  it  they  should  re- 
ceive more  than  5%  on  their  capital  investment. 

Penalty  for  Non-compliance  With  Provisions  of  This  Act 

Section  8.     Provides  that  national  banks  failing  within  one  year  to  comply 
with  the  provisions  of  this  Act  shall  be  dissolved. 

5 


The  bill  should  surely  be  made  sufficiently  attractive  not  only 
to  induce  existing  national  banks  to  take  advantage  of  it  with- 
out this  "do  or  die"  coercion,  but  to  also  induce  existing  state 
banks  to  come  into  the  national  system.  The  advantages  now- 
enjoyed  by  national  banks  as  against  those  enjoyed  by  state 
banks  are  nebulous.  There  are  in  the  country  now  more  than 
two  state  banks  for  every  national  bank  and  in  the  states  hav- 
ing good  banking  laws  this  ratio  is  much  greater  and  constantly 
increasing.  In  Chicago,  a  central  reserve  city,  under  the 
national  system,  there  are  69  state  banks  and  only  18  national 
banks.  If  in  the  matter  of  reserves  nev/  burdens  are  to  be 
placed  on  national  banks  through  the  country  and  if  the  priv- 
ilege of  acting  as  legal  reserve  agents  is  to  be  withdrawn  from 
the  banks  in  the  reserve  and  central  reserve  cities  while  the 
note  issuing  privilege  of  all  is  to  be  gradually  withdrawn  the 
principal  present  advantages  claimed  for  the  national  banks 
over  state  banks  will  be  removed.  The  banks,  both  national 
and  state,  will  have  to  weigh  any  compensating  advantages 
offered  by  the  national  system,  under  this  Act,  against  the 
existing  advantages  of  operating  under  state  laws.  Hence,  the 
necessity  of  providing  a  thoroughly  practical  law,  the  benefits 
of  which  will  be  such  as  to  develop  and  not  to  destroy  our 
national  banking  system. 

Federal  Reserve  Board 

Section  11.  This  board  is  to  consist  of  seven  members.  The  Secretaries 
of  the  Treasury  and  of  Agriculture  and  the  Comptroller  of  the  Currency- 
are  to  be  ex-officio  members.  The  other  four  members,  "one  of 
whom  shall  be  experienced  in  banking,"  are  to  be  chosen  by  the 
President  of  the  United  States  with  consent  of  the  Senate.  The 
Secretary  of  the  Treasury  is  to  be  chairman  of  the  board.  One  of  the 
other  four  members,  presumably  the  one  experienced  in  banking,  is  to 
be  Governor  and  another  is  to  be  Vice-Governor.  The  Governor  is  to 
be  the  active  managing  officer  under  the  supervision  of  the  Secretary 
of  the  Treasury  and  is  liable  to  removal  for  cause  at  any  time  by  the 
President.  All  four  members  are  to  get  $10,000  a  year  for  their 
services  and  the  Comptroller  is  to  get  $5,000  in  addition  to  his  present 
salary  of  $5,000.  No  member  can  be  a  director  of  any  bank,  including 
Federal  Reserve  Banks,  while  he  is  a  member  of  this  board. 

The  President  might  find  it  difficult  to  secure  the  services  of 
a  banker  of  adequate  ability  and  banking  experience  to  fill  the 
position  of  Governor.  The  salary  and  conditions  connected 
with  the  office  are  not,  it  seems  to  me,  such  as  to  attract  such 
a  man  unless  he  were  willing  to  sacrifice  a  great  deal  for  the 
honor  of  holding  it.     There  seems  no  good  business  reason  why 

6 


the  Governor  who  is  to  be  the  active  managing  officer  should 
not  have  higher  compensation  than  the  Vice-Governor  and  the 
other  two  directors,  nor  why  the  salary  of  the  Vice-Governor 
should  not  be  more  than  that  of  the  other  two  directors.  The 
ordinary  business  method  should  be  followed  of  grading  the 
official  salaries  somewhat  in  conformity  with  the  experience  and 
recognized  ability  of  the  incumbents  of  the  different  official 
positions  as  well  as  with  the  responsibilities  placed  upon  them 
and  with  the  duties  they  are  required  to  perform. 

But  the  most  serious  objection  to  the  organization  of  the 
board  lies  in  the  method  of  selecting  its  members.  That  a 
board  so  appointed  would  be  dominated  and  controlled  by 
political  expediency  is  obvious.  The  three  ex-officio  members 
of  it  would  owe  their  positions  to  their  political  affiliations  if 
not  to  their  political  activities.  The  other  four  positions  on  the 
board  would  be  included  among  the  party  plums  and  distributed 
for  party  service  as  part  of  the  spoils  of  the  victorious  party, 
just  as  similar  government  positions  now  are. 

It  has  been  claimed  that  the  Federal  Reserve  Board  would  be 
organized  somewhat  along  the  lines  of  the  Supreme  Court  of 
the  United  States  and  that  it  would  be  kept  as  free  from 
political  influence.  I  fail  to  see  any  analogy  between  the 
organization  of  the  two  bodies,  nor  can  I  admit  that  they  would 
be  equally  free  from  political  influence.  The  Justices  of  the 
Supreme  Court  are  appointed  for  life.  The  Governor  of  the 
Federal  Reserve  Board  is  removable  at  any  time  by  the  President 
and  the  members  are  appointed  for  eight  years  at  most,  with 
nothing  to  prevent  their  removal  at  any  time  should  the  President 
request  it.  The  Justices  of  the  Supreme  Court  are  selected  with 
due  regard  to  their  professional  eminence.  The  members  of  the 
Federal  Reserve  Board  with  one  exception  need  not  have  either 
previous  experience  in,  or  knowledge  of,  the  banking  business, 
the  destinies  of  which  are  to  be  placed  in  their  hands.  The 
duties  and  functions  of  the  Supreme  Court  are  deliberative  in 
deciding  controversies  brought  before  it.  The  duties  of  the 
Federal  Reserve  Board  are  administrative  with  full  power  of 
initiative.  The  Supreme  Court  is  approachable  only  in  public— 
in  open  court— by  counsel  duly  retained.  The  members  of  the 
Federal  Reserve  Board  will  be  individually  as  accessible  as  the 
officers  of  any  business  corporation  or  as  the  heads  of  any  other 
governmental  department.  The  Supreme  Court  is  guided  by 
traditions  and  precedents  dating  back  to  times  immemorial. 
The  Federal  Reserve  Board  will   have  few  if  any  precedents 


for  its  guidance  and  none  that  will  be  binding.  By  the  very- 
nature  of  its  existence  the  Supreme  Court  is  placed  above  and 
beyond  political  exigencies  and  influences.  In  authority  it  is 
superior  to  the  government,  both  legislative  and  adminis- 
trative. Not  so  the  Federal  Reserve  Board,  which  will  be 
nothing,  more  nor  less,  than  a  department  of  the  adminis- 
trative branch  of  the  government  charged  with  the  direction 
and  control  of  the  banking  destinies  of  the  country  divided  into 
twelve  districts.  In  the  event  of  a  district  desiring  some 
special  consideration  at  the  hands  of  the  Federal  Reserve  Board 
—such  for  instance  as  requiring  another  district  to  re-discount 
for  it— what  more  likely  than  that  existing  methods  with  other 
governmental  departments  should  be  followed  and  that  the 
good  offices  of  the  Senators  and  Representatives  in  Congress 
of  that  particular  district  should  be  enlisted  to  see  and  to  use 
their  influence  with  the  members  of  the  board  to  secure  from 
them  the  desired  consideration. 

Banking  and  politics  are  like  oil  and  water,  they  do  not  mix. 
If  the  former  is  to  be  kept  sound  and  good  it  must  be  kept 
separate  from  the  latter.  The  principles  underlying  sound  bank- 
ing are  diametrically  opposed  to  those  which  rightly  or  wrongly 
seem  to  control  politics.  In  their  fiduciary  capacity,  bankers, 
if  they  want  to  succeed  and  be  faithful  to  their  trust,  must  be 
constantly  on  their  guard  against  the  influence  of  such  virtues 
even  as  friendship  and  human  sympathy  and  they  must  officially 
eschew  the  insidious  influence  of  reciprocal  personal  favors. 
Such  influences  seem  to  be  of  the  essence  of  politics  and  to  con- 
trol political  activities. 

It  seems  right  and  reasonable  that  if  there  are  to  be  not  less 
than  twelve  Federal  Reserve  Banks  there  should  be  a  Federal 
Reserve  Board  to  supervise  and  within  reasonable  limitations 
to  regulate  them.  The  government  should  be  properly  repre- 
sented on  the  board  as  also  should  be  the  commercial,  industrial 
and  agricultural  interests  of  the  country.  And  the  contributing 
banks  through  the  Federal  Reserve  Banks  which  they  own  and 
which  the  Federal  Reserve  Board  is  to  regulate  and  direct 
should  also  be  properly  represented  on  it.  Surely  the  national 
banks  without  such  representation  could  not  be  expected,  let 
alone  compelled,  to  supply  $105,000,000  capital  and  $410,000,000 
deposits  to  the  Federal  Reserve  Banks.  By  such  compulsion 
the  rights  of  property  would  have  to  be  entirely  ignored  and  a 
practical  confiscation  of  the  possession  and  control  of  their  own 
property  to  the  extent  of  40%  of  their  paid  in  capital  would 

8 


take  place.  The  directors  of  banks  in  their  fiduciary  capacity 
are  directly  responsible  to  their  shareholders  as  well  as  to  their 
depositors  for  the  funds  they  would  thus  be  compelled  to  place 
beyond  their  own  control.  Could  they  do  so  and  would  they  do 
so  if  they  could  find  a  way  out  of  it  ? 

Powers  of  the  Federal  Reserve  Board 
Section  12.     Defines  the  authority  and  the  duties  of  the  Federal  Reserve 
Board. 

The  objectional  feature  here  is  the  arbitrary  power  given  the 
Federal  Reserve  Board  to  require  a  Federal  Reserve  Bank  to 
rediscount  the  paper  of  any  other  Federal  Reserve  Bank.     It  is 
inconceivable  that  a  condition  could  ever  arise  that  would  make 
the  exercise  of  such  arbitrary  power  necessary  and  it  could  only 
be  exercised  by  absolutely  ignoring  and  infringing  upon  the 
property  rights  of  the  parties.     Has  socialism  so  developed  in 
this  country  that  an  administrative  department  of  the  govern- 
ment will  be  given  the  power  to  arbitrarily  compel  an  incor- 
porated bank  in  one  part  of  the  country,  against  the  will  of  its 
directors,  to  part  with  its  lawful  money  and  receive  in  exchange 
therefor    notes    offered    for  rediscount?    Are   such   business 
transactions  no  longer  to  be  left  to  the  option  and  discretion  of 
the  bank  owning  the  money  ?    Each  Federal  Reserve  Bank  will 
have  eleven  others  to  apply  to  and  if  it  cannot  for  good  and 
satisfactory    business  reasons  obtain   rediscounts  voluntarily 
from  any  of  them,  then  it  should  be  wound  up.     If  it  has  satis- 
factory collateral  to  offer  there  is  not  the  slightest  fear  of  its 
being  able  to  get  the  accommodation  it  needs. 

Rediscounts  and  Bank  Acceptances 

Section  13.  States  the  conditions  under  which  the  Federal  Reserve 
Banks  are  to  rediscount  notes  and  bills  for  the  member  banks.  It  also 
grants  the  power  to  all  member  banks  to  accept  to  the  extent  of  one- 
half  of  their  paid-up  capital  drafts  or  bills  of  exchange  drawn  upon 
them  at  not  exceeding  six  months'  sight  and  growing  out  of  transac- 
tions involving  the  importation  or  exportation  of  goods. 

These  constitute  the  two  principal  advantages  to  be  granted 
by  this  Act  to  the  national  banks  that  continue  in  the  national 
system  and  to  such  state  banks  as  may  elect  to  avail  them- 
selves of  them.  Their  importance  cannot  be  overstated.  The 
lack  of  adequate  facilities  for  converting  liquid  bank  assets 
into  available  circulating  or  debt  paying  media  when  necessary 
is  one  of  the  principal  defects  of  our  present  banking  system. 

Some  ambiguities  and  inconsistencies  appear  in  the  conditions 
regulating  rediscounts,  as  they  are  stated  in  the  Act,  but  these 


have  already  been  brought  to  the  attention  of  the  chairmen  of 
the  two  congressional  committees  having  the  Act  in  charge. 
They  are  non-essential  and  will  doubtless  be  corrected.  With 
a  properly  constituted  Federal  Reserve  Board,  competent  to 
determine  and  define  the  character  of  such  notes  as  are  to  be 
available  for  rediscount,  the  conditions  imposed  would  probably 
work  out  satisfactorily. 

Country  banks  as  a  rule  balk  at  the  forty-five  day  limit  on  the 
maturity  of  the  ordinary  rediscountable  paper.  It  seems  to  me, 
however,  that  they  misconstrue  and  are  unnecessarily  afraid  of 
this  condition.  Every  bank  has  in  its  portfolio  notes  maturing 
daily.  Any  day  on  which  a  bank  requires  a  rediscount  it  has 
all  the  paper  in  its  portfolio,  that  has  been  made  "for  agricul- 
tural, industrial,  or  commercial  purposes, "  that  matures  within 
the  next  forty-five  days  available  for  that  purpose.  The  loans 
may  have  been  originally  made  for  much  longer  periods,  but 
there  comes  a  time  when  they  will  mature  within  forty-five 
days.  Loans  to  farmers  are  made  for  agricultural  purposes  as 
a  rule  and  would,  without  doubt,  be  made  available  for  redis- 
counting  purposes.  Of  such  loans  in  hand,  made  from  day  to 
day  in  the  ordinary  course  of  business  for  six  months'  periods, 
one-fourth  would  naturally  mature  within  forty-five  days,  and 
for  three  months'  periods  one-half  would  similarly  mature.  On 
any  given  day  a  bank  sending  in  for  rediscount  such  of  its 
available  paper  on  hand  as  matures  in  say  from  ten  to  forty- 
five  days  would  ten  days  later  have  the  maturities  of  another 
ten  days  become  available.  In  order  that  the  assets  of  the 
reserve  banks  should  be  kept  as  liquid  as  possible  it  is  certainly 
most  desirable  that  rediscounts  granted  by  them  should  be  on 
short  maturities.  The  country  banks  would  have  no  difficulty 
in  adjusting  themselves  to  this  condition  by  simply  so  regulating 
the  maturities  of  their  loans  as  to  always  have  sufficient  of 
them  maturing  within  forty-five  days  and  so  made  available  for 
rediscounting  purposes.  By  so  doing  they  would  materially 
strengthen  their  own  condition  even  if  they  should  not  find 
rediscounts  necessary. 

In  regard  to  the  power  to  be  given  all  member  banks  to 
accept  time  drafts  drawn  on  them;  all  banks  do  not  need  this 
power  and  I  think  it  is  doubtful  if  they  should  all  have  it.  It 
seems  to  me  that  only  those  having  a  specified  strength  from 
the  standpoint  of  paid-in  capital  and  whose  acceptances  would 
pass  as  prime  bills  in  the  money  markets  open  for  such  paper 
should  enjoy  this  privilege.     Otherwise  there  might  be  about 

10 


as  much  difficulty  in  judging  the  quahty  of  bank  acceptances 
afloat  in  the  market  as  there  was  in  connection  with  the  State 
bank  note  issues  before  the  national  banking  system  was 
inaugurated.  The  possibilities  of  an  undue  inflation  of  credit 
resulting  from  the  use  or  misuse  of  such  acceptances,  should 
in  my  judgment,  be  guarded  againstby  restricting  the  privilege 
to  banks  having  a  paid-in  capital  of  not  less  than  $1,000,000. 

Note  Issues 

Section  17.  This  section  states  the  conditions  and  regulations  under  which 
circulating  notes,  to  be  known  as  Federal  Reserve  Treasury  notes, 
are  to  be  issued  by  the  Government  to  the  Federal  Reserve  Banks  and 
by  them  to  be  paid  out  and  redeemed.  Stated  concisely  these  condi- 
tions and  regulations  are: 

1.  The  issue  is  primarily  limited  to  $500,000,000. 

2.  The  issue  may  be  increased  as  national  bank  notes  are  retired  at 
the  maximum  rate  of  Sfr  per  annum  of  the  amount  of  such  notes  out- 
standing at  the  time  of  the  passage  of  this  Act.  All  national  bank 
notes  outstanding  are  to  be  retired  at  the  expiration  of  twenty  years 
from  the  passage  of  this  Act. 

3.  The  notes  shall  purport  on  their  face  to  be  the  obligations  of  the 
United  States. 

4.  They  shall  be  issued  solely  for  the  purpose  of  making  advances  to 
Federal  Reserve  Banks  at  the  discretion  of  the  Federal  Reserve 
Board. 

5.  They  shall  be  receivable  for  taxes,  customs  and  other  public  dues. 

6.  They  shall  be  redeemable  in  gold  on  demand  at  the  Treasury  De- 
partment in  Washington  or  at  any  Federal  Reserve  Bank. 

7.  When  redeemed  by  any  such  bank  they  may  be  charged  by  it  against 
Treasury  balances  on  its  books  or  may  be  paid  out  of  its  lawful  money 
reserves  specifically  held  for  their  redemption. 

8.  Federal  Reserve  Banks  must  accompany  their  applications  for  them 
with  a  tender  to  the  local  Federal  Reserve  agent  of  notes  and  bills 
which  they  have  rediscounted  equal  in  amount  to  the  sum  of  the  notes 
applied  for. 

9.  The  Federal  Reserve  Board  may  at  any  time  call  upon  the  Federal 
Reserve  Banks  for  additional  deposits  of  security. 

10.  The  Federal  Reserve  Banks  shall  hold  segregated  in  their  own  vaults 
gold  or  lawful  money  equal  to  3S}i%  of  the  amount  of  Federal  Re- 
serve Treasury  notes  paid  out  or  disbursed  by  them. 

11.  The  Federal  Reserve  Board  may  require  Federal  Reserve  Banks  to 
maintain  in  the  Treasury  of  the  United  States  a  5ff  redemption  fund 
against  the  Federal  Reserve  Treasury  notes  issued  to  them  which  shall 
be  included  as  part  of  the  33 >^,^  reserve  required. 

12.  When  on  the  application  of  the  Federal  Reserve  Banks  notes  are 
issued  to  them,  the  amount  so  issued  shall  be  charged  to  them  and  they 
shall  pay  interest  on  said  amount  at  such  rate  as  the  Federal  Reserve 
Board  may  establish. 

11 


13.  The  amount  of  such  notes  so  issued  to  any  such  bank  shall  upon 
delivery  become  a  first  lien  on  all  its  assets. 

14.  Any  Federal  Reserve  Bank  may  at  any  time  reduce  its  liability  for 
outstanding  notes  by  depositing  Federal  Reserve  Treasury  notes, 
whether  issued  to  it  or  to  some  other  such  bank,  other  lawful  money 
or  gold  bullion  with  the  Federal  Reserve  agent  or  with  the  Treasurer 
of  the  United  States. 

While  these  Federal  Reserve  notes  are  to  purport  on  their 
face  to  be  the  obligations  of  the  United  States,  they  are  in  fact 
to  be  primarily  the  obligations  of  the  Federal  Reserve  Banks 
guaranteed  by  the  government.    The  Federal  Reserve  Banks 
are  primarily  charged  with  their  redemption.     For  these  pri- 
mary obligations  of  the  Federal  Reserve  Banks  the  notes  are 
made  a  first  and  paramount  lien  on  all  their  assets,  besides 
being  collaterally  secured  by  them  by  a  specific  pledge  of  com- 
mercial paper  of  equal  amount,  and  by  the  segregation  of  gold 
or  other  lawful  money  equal  to  33  >3  %  of  the  amount  of  them  out- 
standing.   They  are  also  to  be  redeemable  at  the  United  States 
Treasury;  but  the  funds  for  that  purpose  are  to  be  supplied  by 
the  Federal   Reserve   Banks.     Unless  therefore  the   Federal 
Reserve  Banks  default  in  their  obligation  to  redeem  the  notes 
the  government  will  not  be  required  to  pay  or  redeem  them 
with  its  own  funds.     It  is  a  good  principle  in  business  that  the 
real  purport  of  an  obligation  should  be  unequivocally  expressed 
in  the  contract.     The  plain,  straightforward  and  businesslike 
way  to  express  the  contract  contained  in  these  notes  is  to  make 
them  the  direct  obligations  of  the  banks  that  pay  them  out  and 
that  are  primarily  responsible  for  the  redemption  of  them;  and 
if  the  United  States  is  to  guarantee  their  final  payment,  let 
that  obligation  also  appear  on  their  face  in  the  form  of  a 
guaranty. 

There  appears  to  be  an  inconsistency  or  ambiguity  in  connec- 
tion with  the  interest  to  be  charged  the  Federal  Reserve  Banks 
on  the  amount  of  notes  delivered  to  them.  These  banks  could 
not  afford  to  pay  interest  on  the  notes  until  they  actually  have 
the  use  of  them  by  paying  them  out.  The  intention  must  be  to 
charge  interest  on  the  amount  paid  out  and  put  into  circulation. 

It  may  be  remarked  that  any  interest  charged  by  the  gov- 
ernment on  the  amount  of  notes  issued  to  the  Federal  Reserve 
Banks  must  necessarily  reduce  by  a  like  amount  the  net  profits 
to  be  paid  by  these  banks  to  the  government.  The  govern- 
ment's object  therefore  in  charging  interest  which  it  must  pay 
itself  is  not  quite  obvious. 

12 


It  seems  unnecessary  that  the  Federal  Reserve  Banks  should 
be  required  to  specifically  pledge  a  part  of  their  assets  as  secur- 
ity for  the  notes  issued  to  them  when  such  notes  are  a  first 
and  paramount  lien  on  all  their  assets.  The  whole  includes 
a  part. 

The  machinery  provided  for  the  handling  of  these  note  issues 
seems  to  have  been  made  unnecessarily  cumbersome  and  compli- 
cated by  an  attempt  to  embody  in  the  plan  the  erroneous  principle 
that  to  the  government  belongs  the  exclusive  prerogative  of 
issuing  the  circulating  medium.  The  experience  of  the  world  is 
that  it  is  better  for  a  government  to  provide  the  paper  circu- 
lating medium  indirectly  through  properly  organized  banks 
under  strict  government  supervision  rather  than  put  the  credit 
of  the  government  at  issue  with  every  note  placed  in  circula- 
tion. Troublesome  times  come  to  every  community  and  to 
every  nation  and  it  is  better  then  to  have  the  credit  of  the 
banks  called  in  question  than  the  credit  of  the  government 
itself. 

The  proposed  hybrid  form  of  Federal  Reserve  notes  —  half 
government  and  half  bank  obligations  —  had  better  be  either 
the  one  or  the  other.  As  bank  notes  they  would  be  amply 
secured  without  the  superfluous  government  guaranty.  Issued 
by  the  banks  when  and  as  needed  they  would  more  readily  auto- 
matically adjust  themselves  in  volume  to  the  actual  commercial 
needs  for  them.  As  obligations  of  the  government,  they  are 
likely,  as  do  our  present  government  issues  and  our  govern- 
ment bond-secured  national  bank  notes,  to  remain  too  long 
in  circulation,  no  active  redemption  of  them  being  deemed  nec- 
essary. It  should  not  be  overlooked  that  it  is  the  active  and 
constant  redemption  of  a  circulating  medium  that  makes  it 
elastic.  Expansion  without  contraction  is  not  elasticity,  but 
inflation.  I  would  very  much  fear  inflation  in  connection  with 
such  an  issue  as  is  proposed.  The  suggestion  that  the  Federal 
Reserve  Banks  issue  the  notes  and  maintain  a.  50%  reserve 
against  them,  being  taxed  when  their  reserves  fall  below  that 
figure,  the  tax  to  increase  as  the  reserves  diminish,  is  a  good 
one  and  worthy  of  careful  consideration. 

Transit  Items  Handled  by  Federal  Reserve  Banks 

Section  17.  Further  provides  that  Federal  Reserve  Banks  must  receive  on 
deposit  at  par  and  without  charge  for  exchange  or  collection,  checks 
or  drafts  drawn  on  any  of  its  depositors  or  by  any  of  it  depositors  on 
any  other  depositor,  and  checks  and  drafts  drawn  by  any  depositor  in 
any  other  Federal  Reserve  Bank  on  the  bank  last  mentioned. 

13 


This  provision  seems  to  contemplate  that  each  Federal  Reserve 
Bank  w^ill  collect  free  of  cost  for  each  of  its  depositing  banks 
checks  drawn  on  all  other  depositing  banks  in  its  district.  To 
carry  this  out  would  require  quite  a  large  office  force,  but  if  it 
could  be  satisfactorily  accomplished  there  might  be  some 
economy  in  it. 

Transfers  of  Funds 

It  is  further  provided  in  Section  17  that  the  Federal  Reserve  Board  shall 
make  regulations  governing  the  transfer  of  funds  at  par  among 
Federal  Reserve  Banks  and  that  it  may,  at  its  discretion,  exercise 
the  functions  of  a  clearing  house  for  such  Federal  Reserve  Banks  and 
may  also  require  each  such  bank  to  exercise  clearing  house  functions 
for  its  shareholding  banks. 

As  the  transfer  of  funds  from  one  Federal  Reserve  Bank  to 
another  would  inevitably  sometimes  involve  the  shipment  of 
funds  by  express,  it  is  not  quite  apparent  how  the  Federal 
Reserve  Board  could  make  regulations  governing  such  transfers 
always  at  par.  Nor  is  it  quite  apparent  how  the  Federal  Reserve 
Board  located  in  Washington  could  exercise  clearing  house  func- 
tions for  the  twelve  Federal  Reserve  Banks,  as  such  functions 
are  at  present  understood.  The  banks  in  each  district  would 
even  be  too  widely  scattered  for  the  Federal  Reserve  Bank  of 
the  district  to  exercise  for  them  clearing  house  functions, 
except,  possibly,  in  regard  to  the  handling  of  country  checks, 
commonly  known  as  transit  items.  Local  checks,  which  are  all 
that  most  clearing  houses  now  handle,  would  have  to  continue 
to  be  cleared  through  local  clearing  houses.  Arrangements 
might  be  made,  however,  to  settle  clearing  house  balances  by 
checks  on  the  Federal  Reserve  Bank  of  the  district. 

National  Bank  Notes  to  be  Retired  and  Government 

Two  Per  Cent  Bonds  Refunded 

Sections  18,  19  and  20.  Provide  satisfactorily  for  the  gradual  retirement 
of  the  present  bond-secured  national  bank  notes  and  the  refunding  of 
the  2^0  government  bonds  pledged  as  security  for  them  into  3%  bonds 
payable  after  tvv^enty  years  at  the  rate  of  5fo  per  annum  for  twenty 
years,  at  the  end  of  which  time  every  holder  of  2%  government  bonds 
then  outstanding  shall  receive  in  exchange  3%  bonds  payable  twenty 
years  from  date  of  issue. 

It  will  be  noticed  that  the  3%  bonds  the  banks  are  to  receive 
in  exchange  for  the  2%  bonds  which  they  may  surrender  at  the 
rate  of  5%  per  annum  of  their  holdings  are  payable  "after 
twenty  years"  while  the  3%  bonds  which  the  holders  of  the  2% 
bonds  are  to  get  in  exchange  for  them  at  the  expiration  of 

14 


twenty  years  are  to  have  a  definitely  fixed  date  of  payment,  viz  : 
"twenty  years  from  date  of  issue."  This  looks  like  an  error  in 
the  drawing  of  the  bill,  as  the  government's  practice  is  to  make 
such  bonds  payable  after  a  certain  date  at  its  pleasure. 

Bank  Reserves 

Section  21.     This  section  regulates  bank  reserves.     Concisely  stated  the 
regulations  are  as  follows: 

1.  That  every  national  bank  shall  within  sixty  days  after  the  establish- 
ment of  a  Federal  Reserve  Bank  in  its  district  deposit  with  such 
Federal  Reserve  Bank  3%  of  its  total  demand  liabilities  and  at  the 
end  of  fourteen  months  shall  increase  such  deposit  to  5^.  Such 
deposit  balance  may  be  increased,  but  shall  at  no  time  fall  below  the 
amounts  aforesaid. 

Country  Banks 

2.  National  banks,  classified  as  country  banks,  outside  of  central  re- 
serve and  reserve  cities,  are  required  to  maintain  a  1^%  reserve. 
Such  reserves  shall  consist  of  5%  lawful  money  in  their  vaults,  h'/'c  as 
above  provided  for  with  their  district  Federal  Reserve  Bank,  and  for 
thirty-six  months  5f^  with  their  legal  reserve  agents;  after  thirty-six 
months  this  5^  must  consist  either  of  lawful  money  in  their  vaults  or 
of  balances  on  deposit  with  the  Federal  Reserve  Bank  of  their  district; 
with  this  proviso,  that  the  Federal  Reserve  Board  may,  in  its  discre- 
tion, permit  the  last  mentioned  5^  to  be  on  deposit  with  any  bank  in 
a  reserve  or  central  reserve  city. 

Banks  in  Reserve  Cities 

3.  Banks  in  reserve  cities  from  and  after  the  date  set  by  the  Secretary 
of  the  Treasury  for  the  incorporation  of  the  Federal  Reserve  Banks 
in  their  various  districts  shall,  for  a  period  of  twenty-six  months, 
maintain  a  reserve  of  25%  ;  for  twelve  months  thereafter  a  reserve  of 
225^  %,  and  permanently  thereafter  a  reserve  of  20%.  For  sixty  days 
from  the  above  named  date  they  shall  keep  12^%  in  lawful  money  in 
their  vaults,  and  thereafter  10%.  They  may  keep  their  additional 
reserve,  above  the  lawful  money  required,  either  with  the  Federal 
Reserve  Bank  or  with  the  reserve  agent  in  the  central  reserve  cities 
for  a  period  not  exceeding  thirty-six  months,  but  the  balance  of  3% 
and  5%  respectively  on  deposit  with  the  Federal  Reserve  Bank  shall 
not  be  diminished. 

Banks  in  Central  Reserve  Cities 

4.  Central  reserve  city  banks  for  a  period  of  fourteen  months  shall 
maintain  a  reserve  in  lawful  money  of  25%;  thereafter  for  twelve 
months  22K%,  and  after  twenty-six  months  20%.  For  a  period  of 
sixty  days  they  shall  maintain  in  their  own  vaults  in  lawful  money 
20%,  and  thereafter  10%.  It  shall  be  optional  with  them  to  keep  their 
reserve,  in  addition  to  the  lawful  money  required  in  their  vaults, 
either  in  their  own  vaults  or  as  a  deposit  with  the  Federal  Resei've 
Bank  of  their  district;  provided,  however,  that  the  3%  and  5%  bal- 
ances with  the  Federal  Reserve  Banks  shall  not  be  diminished. 

15 


I  would  draw  attention  to  two  inconsistencies  in  these  regula- 
tions : 

1.  It  is  not  stated  what  the  banks  in  the  reserve  cities  will 
be  required  to  do  with  their  additional  reserve  above  the  lawful 
money  they  are  required  to  maintain  after  the  thirty-six  months 
period,  during  which  they  may  keep  it  either  with  the  Federal 
Reserve  Banks  or  with  a  reserve  agent  in  a  central  reserve  city. 
This  is  evidently  an  inadvertent  omission. 

2.  The  central  reserve  city  banks  for  a  period  of  fourteen 
months  are  required  to  maintain  a  reserve  in  lawful  money  of  25%, 
thereafter  for  twelve  months  22>^%  and  after  twenty-six 
months  20%.  This  must  mean  a  "legal  reserve"not  "a  reserve 
in  lawful  money, ' '  as  the  next  sentence  permits  them  to  imme- 
diately reduce  their  reserve  in  lawful  money  to  20%  and  after 
sixty  days  to  10%. 

A  committee  of  the  Currency  Commission  of  the  American 
Bankers'  Association  has  criticised  this  section  as  follows  and 
as  their  criticism  expresses  my  views  I  will  here  quote  it: 

"The  reserve  requirements  in  the  bill  will,  it  is  believed, 
bear  most  hardly  upon  country  banks  and  seriously  curtail  their 
ability  to  extend  accommodations  to  their  customers  as  compared 
with  the  requirements  under  existing  law.  It  is  suggested 
that  no  plan  to  redistribute  deposits  with  a  view  to  eliminating 
concentration  at  centers,  should  overlook  the  natural  flow  of 
commerce  between  the  country  and  the  financial  centers  which 
contributes  a  natural  part  of  the  concentration  of  funds  at 
centers,  as  distinguished  from  the  artificial  or  unnatural  con- 
centration there.  While  the  bill  makes  the  requirement  of 
reserve  in  the  same  percentage  as  under  existing  law,  it  does 
in  effect  increase  the  requirement  of  actual  cash  means,  since 
country  banks  would  find  it  necessary  in  addition  to  the  reserve 
specified  to  carry  considerable  balances  in  reserve  cities  to 
enable  them  to  transact  their  customers'  business  conveniently 
and  in  order  to  maintain  a  relation  that  will  establish  a  privilege 
of  borrowing  upon  collateral  such  as  would  not  be  available  for 
discount  with  Federal  Reserve  Banks. 

"The  same  reasons  apply  measurably  to  reserve  city  banks." 

To  this  I  would  add  that  in  the  case  of  the  reserve  and 
central  reserve  city  banks,  to  the  extent  that  the  legal  reserve 
deposits  of  the  banks  are  withdrawn  from  them,  their  loaning 
power  will  be  proportionately  curtailed  and  the  contraction  of 
credits  which  this  would  cause  might  produce  a  serious  situation. 

16 


The  answer  that  has  been  made  to  this,  that  they  will  be  able 
to  rediscount  with  the  Federal  Reserve  Banks,  does  not  cover 
the  case  as  their  necessities  might  easily  be  greater  than  their 
rediscounting  privilege  and  it  would  be  the  reverse  of  conserva- 
tive banking  and  might  produce  a  very  bad  condition  were  they 
to  rediscount  too  freely. 

The  committee  above  referred  to  have  recommended  that 
Section  Eighteen  of  the  bill  be  stricken  out  and  the  following 
inserted  in  lieu  of  it. 

"It  shall  be  the  duty  of  all  member  banks  to  maintain  re- 
serves as  hereinafter  stated  against  all  demand  deposits  which 
shall  include  time  deposits  maturing  within  forty-five  days; 
to-wit,  country  banks  15%,  reserve  city  banks,  18%,  central 
reserve  city  banks  20%. 

"In  the  case  of  a  country  bank  such  reserve  shall  consist  of 
not  less  than  5%  of  lawful  money  in  its  vault  and  not  less  than 
3%  with  its  district  Federal  Reserve  Bank;  79^  may  consist  of 
balances  due  from  reserve  agents  approved  by  the  Comptroller 
of  the  Currency. 

"In  the  case  of  a  reserve  city  bank  such  reserve  shall  consist 
of  not  less  than  6%  lawful  money  in  its  vault  and  not  less  than 
6%  with  its  district  Federal  Reserve  Bank.  Six  per  cent  may 
consist  of  balances  due  from  reserve  agents  approved  by  the 
Comptroller  of  the  Currency. 

"In  the  case  of  a  central  reserve  city  bank,  such  reserve  shall 
consist  of  not  less  than  10%  lawful  money  in  its  vaults  and  not 
less  than  10%  with  its  district  Federal  Reserve  Bank. 

"Provided  that  when  the  date  is  set  by  the  Secretary  of  the 
Treasury'  and  officially  announced,  the  deposits  of  reserve  here- 
inabove required  to  be  placed  with  Federal  Reserve  Banks  shall 
be  made  as  follows:  One  third  in  not  less  than  sixty  days; 
one  third  in  not  less  than  fourteen  months;  and  one  third  in 
not  less  than  twenty-six  months  after  such  date." 

It  is  worthy  of  mention  here  that  the  minimum  reserve 
deposits  of  the  national  banks  in  the  Federal  Reserve  Banks, 
which  equal  5%  of  their  deposits,  and  which,  therefore,  based 
on  the  present  aggregate  deposits  of  the  national  banks,  would 
amount  to  $410,000,000,  are  to  be  absolutely  impounded.  "Siich 
balances  may  at  any  time  be  increased,  but  shall  at  no  time  be 
alloived  to  fall  beloiv  the  amounts  aforesaid."  Under  such  a 
condition  can  such  balances  be  considered  reserves  at  all  ? 
What  are  reserves  for  if  not  for  use  in  emergencies  ?    They 

17 


would  be  unavailable  at  any  time,  or  for  any  purpose,  prior  to 
the  liquidation  of  the  banks  to  which  they  belong. 

Loans  on  Farm  Lands 

Section  27.  Permits  national  banks  located  outside  of  reserve  and  central 
resei-ve  cities  to  make  first  mortgage  loans  to  the  extent  of  25  fc  of 
their  capital,  or  50  5f  of  their  time  deposits,  on  farm  lands  in  their  own 
district,  for  50  %  of  their  value  and  for  not  exceeding  nine  months. 

As  farm  mortgage  loans  are  usually  made  for  a  much  longer 
period  than  nine  months,  and  necessarily  so,  this  privilege  will 
be  of  little  or  no  advantage  to  the  national  banks  in  competi- 
tion with  state  banks  and  other  concerns  doing  a  regular  farm 
loan  business. 

Section  20.  Permits  national  banks  having  a  capital  of  $1,000,000  or  more 
under  specified  conditions  and  such  other  conditions  as  may  be  pre- 
scribed by  the  Federal  Reserve  Board  to  open  branches  in  foreign 
countries. 

This  privilege  will  be  of  advantage  to  and  will  be  appreciated 
by  some  of  the  largest  banks  in  the  principal  financial  centers. 


18 


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